Penson aims to rebound amid tough times

JacobBunge

--Penson suffers from some of the same ills that sank onetime rival MF Global

--Firm is selling off assets, paying off debt to avoid similar fate

--Stock is down 78% since start of 2011

(Updates with hiring of investment bank to advise on sale of Canadian unit.)

Troubled brokerage and clearing firm Penson Worldwide Inc.
PNSN
has stepped up efforts over the past month to find a way forward in a tough climate for brokers, which played into the collapse of onetime rival MF Global Holdings Ltd.
MFGLQ

Dallas-based Penson, which routes and processes trades for smaller brokers and private trading firms, is working to sell off assets and pay down debt in a bid to restore profitability following a string of quarterly losses and an outsized exposure to troubled debt--some similarities Penson bears to MF Global.

Penson's business model differs from MF Global's, however, in that the firm doesn't trade for its own account and serves largely stock-trading clientele, compared with MF Global's heavy presence in futures.

Penson's share price has tumbled 78% since the start of 2011. The stock has traded a little above $1 since early November, occasionally dipping below that level. The company's struggles have spurred analysts to speculate about a takeover.

"It's fair to say we have an earnings problem today," said Phil Pendergraft, chief executive and co-founder of Penson, in an interview. "That's based upon changes in the macro environment. It's not because we're taking big losses in proprietary positions."

MF Global's late-October downfall was sparked by concern over the derivatives brokerage's large exposure to European sovereign debt, as well as a surprise quarterly loss and bruising credit downgrades.

Penson's customers now include refugees from MF Global, as Penson took on some MF Global client accounts in the days after that firm's Oct. 31 implosion.

Some of Penson's problems this year can also be traced to debt exposure, though of a different sort. In May Penson disclosed that it held as trading collateral $42.6 million in illiquid bonds issued by a horse-racing track operator that maintained ties with one of Penson's board members, raising investor questions about corporate governance and risk management.

Penson shares shed about 50% of their value over two days that month, and the episode spurred management into a broad restructuring of the firm, which has included selling off international subsidiaries and combining some domestic businesses. In the interview, Pendergraft said the firm was about one quarter away from completing the plan. Penson last summer wrote down the value of the racetrack bonds.

Last week Penson moved to shutter its money-losing U.K. operation, three weeks after the sale of a better-performing Australia business which booked a $14 million gain in the fourth quarter. Pendergraft said Penson is now "actively engaged" in the process of selling its Canadian business, which has also been profitable.

The firm on Tuesday announced that it had hired Financial Technology Partners LP to advise on the sale of the Canada unit, which Penson estimated at a book value of $54 million, with 179 employees.

Officials guiding the restructuring have targeted about $33 million in planned cost savings and substantially paying down a revolving credit facility.

Penson counts about 350 customers that have slightly over $30 billion in assets with the firm, representing the trades of more than 1 million public customers, Pendergraft said. Clients have stuck by the firm this year, in part because Penson's broker-dealer unit maintains five times its required amount of regulatory capital, and customer assets are segregated at the Depository Trust & Clearing Corp.

Three years ago, the Federal Reserve chopped its benchmark rate to nearly zero, wiping out much of the income clearing firms like Penson and MF Global typically earned on customer money they hold on deposit. That factored into MF Global's embrace of riskier trading.

Meanwhile, turnover in U.S. stocks--a business that represents 85% of Penson's revenue--has been slowing. Volumes are on pace to average 8 billion shares traded per day this year, down from the average 8.5 billion that changed hands on an average day in 2010 and 8.9 billion in 2009. Analysts have little hope for trade to recover in the near future.

"If Penson can get to a profitable or break-even business over next quarter or two, a regulated broker with high regulatory capital would have significant value," said Seth Hamot, managing member and portfolio manager at RRH Capital Inc., an investment firm that took an approximate 3.5% stake in Penson three months ago. He said odds seem good that Penson could be acquired as it makes progress on the restructuring.

Pendergraft said the company's board evaluates strategic alternatives for the company and remains focused on "doing what's best for our shareholders."

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